Why Amazon's Record Stock Gains Are Over

(Note: The author of this fundamental analysis is a financial writer and portfolio manager.)

Amazon.com (AMZN) shares are looking frothy, and the last few times the stock has gotten to its current valuation, it suffered a significant pullback. The e-commerce giant's stock is currently trading near its all-time high and is also trading at historically high valuations. If the past serves as a guide for the future, then its current valuation suggests Amazon's shares may have already peaked in 2018 and could be set to decline by 10 percent. 

On average, Amazon shares have traded at a one-year price-to-sales ratio of roughly 2 since the start of 2015, with a standard deviation of approximately 0.34. That puts the valuation in a range of 1.67 to 2.35 times one-year forward sales estimates. Amazon stock is currently trading at 2.42 times 2019 sales forecasts of $283.36 billion, making the shares overvalued on a historical basis. 

AMZN Chart

AMZN data by YCharts

Valuing Amazon

With Amazon never entirely focused on driving the bottom line and boosting profits, it's hard to use a traditional measure of an earnings multiple to value the corporate giant. 

The chart above demonstrates that the one-year forward price-to-sales ratio has acted as a fairly good measure of Amazon's valuation. The chart shows that each time the one-year forward price-to-sales ratio rose above 2.35 in the past, Amazon saw a decline in its stock price. 

Higher Lows

You can also see that the troughs in the multiple have consistently been rising as well, which means on each move lower, the market is discounting Amazon shares less than the previous occasion, which could be a result of the company's accelerating revenue growth and improving gross profit margins. Amazon's revenue has climbed in each of the past three years, from 20 percent in 2015, to 27 percent in 2016, and nearly 31 percent in 2017.  

Growth Continues

Revenue is expected to continue to grow at a blistering rate of approximately 31 percent in 2018, and by 21.5 percent in 2019. It's hard to imagine that shares of Amazon could fall too sharply from its previous levels. (See also: Oracle's Plan To Beat Amazon, Microsoft On Cloud.)

But should the ratio simply revert to the uptrend, as it has in the past, the forward sales multiple could fall to roughly 2.15. And that would cause the market cap to decline from roughly $682 billion to $610 billion, a drop of about 10 percent.

Although predicting how far Amazon's stock could fall from its current price is not an exact science, the market is apparently stating pretty clearly that 2.4 times next year's forward sales is expensive enough. And if that is the case, Amazon shares may have peaked in 2018, unless the company can convince the analyst community that its 2019 estimates are too low, which could allow that multiple to reset. (See also: The Investopedia Anxiety Index Explained.)

Michael Kramer is the Founder of Mott Capital Management LLC, a registered investment adviser, and the manager of the company's actively managed, long-only Thematic Growth Portfolio. Kramer typically buys and holds stocks for a duration of three to five years. Click here for Kramer's bio and his portfolio's holdingsInformation presented is for educational purposes only and does not intend to make an offer or solicitation for the sale or purchase of any specific securities, investments, or investment strategies. Investments involve risk and unless otherwise stated, are not guaranteed. Be sure to first consult with a qualified financial adviser and/or tax professional before implementing any strategy discussed herein. Upon request, the advisor will provide a list of all recommendations made during the past twelve months. Past performance is not indicative of future performance.

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